Central Banks and the IMF Warm Up to (Centralized) Digital Currencies

Sweden’s central bank, the Riksbank, is considering whether the country should introduce a purely digital form of government-backed money, perhaps using distributed ledger technologies (DLTs) similar to the blockchain technology underlying Bitcoin. This move is part of a recent trend: around the world, nations are considering cryptocurrencies issued by central banks; and recently, the managing director of the International Monetary Fund (IMF) gave a speech hinting at its interest in the concept.

A September 2017 report titled “The Riksbank’s e-krona project” outlines a proposal for a digital complement to cash, dubbed e-krona, which would be guaranteed by the state. “This is as revolutionary as the paper note 300 years ago,” Cecilia Skingsley, deputy governor at the Riksbank, told the Financial Times in November 2016. “What does it mean for monetary policy and financial stability? How do we design this: a rechargeable card, an app or another way?” Skingsley added that the type of technology to be used is under discussion.

“With regard to DLT including blockchain technology, this is relatively new and untried technology that does not yet have any applications similar to the e-krona described in the report,” states the new Riksbank report.

“Considerable research and development is being performed in DLT and many central banks are making efforts to research the technology, but there are only a few more significant DLT applications currently in production. This is partly due to the technology being so new and to it having some weaknesses, such as limitations in performance and a lack of standards and regulations. Development in DLT is progressing incredibly rapidly, however, and many major players are taking part in it.”

The report notes that an important difference between cryptocurrencies and fiat currency is that a cryptocurrency that is not backed by a central bank has no inherent value but only speculative value, which implies a high volatility.

According to the Riksbank, a digital central bank currency should work as a means of payment, unit of account and store of value. The proposed e-krona, targeted at the general public, combines these three functions. In particular, since the e-krona is a claim on the Riksbank and guaranteed by the government, it also fulfils the function as a store of value. The report assumes that the e-krona will be broadly available to the general public, but states that “it will not necessarily be a cryptocurrency, as this will depend on the choice of technology.”

“A cryptocurrency issued by a central bank can either be made available to a broad general public or limited to large and time-critical payments between banks,” continues the Riksbank report. “If anonymity is not a decisive/desirable quality of the currency, the general public can instead be given access to accounts with the central bank to obtain access to cash in digital form.”

Reading between the lines, it seems evident that the Riksbank does not consider anonymous transactions as a desirable feature, and would insist on filtering and managing the citizens’ access to a possible blockchain-based implementation of the e-krona.

Of course, there’s nothing surprising here. The Riksbank’s move is partly motivated by the fact that the use of cash in Sweden is rapidly falling, with more and more people using private and often mobile e-payment means. The e-krona could be an alternative to private e-payment providers, but anonymity is not one of the features of cash that the central bank wants to emulate. On the contrary, the e-krona, especially if blockchain-based, would give the government the means to easily monitor all transactions.

Global Interest in National Digital Currencies

The Riksbank isn’t the only central bank to consider issuing its own digital currency. The central banks of Singapore, Papua New Guinea, Canada and others are considering similar moves. A recent research paper issued by the Bank of Canada, which considers a possible Bitcoin standard similar to the gold standard, is especially interesting. Even China’s central bank is cautiously testing a digital currency.

The paper makes a distinction between a “retail” central bank cryptocurrency (CBCC) and a “wholesale” one that would be used only by banks, and concludes that all central banks may eventually have to decide whether issuing retail or wholesale CBCCs makes sense in their own context. Here again, anonymity isn’t likely to be considered as a desirable feature, unless the citizens really want it.

“The main benefit that a consumer-facing retail CBCC would offer, over the provision of public access to (centralized) central bank accounts, is that the former would have the potential to provide the anonymity of cash,” argues the BIS paper.

Lagarde uses the term “virtual currency” essentially as a synonym of “cryptocurrency.” According to Lagarde, virtual currencies such as bitcoin pose little or no challenge to the existing order because they are too volatile, too risky, too energy intensive and because the underlying technologies are not yet scalable. “Many are too opaque for regulators; and some have been hacked,” she added.

On the other hand, continued Lagarde, current technical challenges could be solved and the use of virtual currencies could grow exponentially, especially in countries with weak institutions and unstable national currencies. Virtual currency could also open the door to better payment services and new models of financial intermediation.

“[Citizens] may one day prefer virtual currencies, since they potentially offer the same cost and convenience as cash — no settlement risks, no clearing delays, no central registration, no intermediary to check accounts and identities,” concluded Lagarde. “If privately issued virtual currencies remain risky and unstable, citizens may even call on central banks to provide digital forms of legal tender.”